Standing Atop Mount Inflation

The watery planet seems to be becoming even more watery. It was pouring in the U.K. yesterday, when we left. Gloucester is suffering the worst flooding in 60 years. Tewkesbury has become the Venice of England.

Get used to it, say the meteorologists. More rain is on the way.

Maybe a lot more rain. “Climate change,” say some Canadian experts. They say that more water in the Northern Hemisphere is consistent with their climate models. The tropics are getting drier. But temperate areas of the planet are supposed to be getting wetter. We wonder if these are the same experts who said a couple of years ago that England would be more like Italy in the summer – hotter and drier?

The climate experts scored a real coup when they changed “global warming” to “climate change.” Now every change in the weather is consistent with their models.

“We’ve had an unusually wet summer in California too,” said an old friend we met here in Vancouver. And in Vancouver itself, it is…well…raining.

Meanwhile, we mentioned that Ben Bernanke spoke to Congress a few days ago. He dumbed down his view of things to a level the politicians could grasp. But we wonder if he went too far.

The key element to the Bernanke view is that inflation is no problem…and becoming less of a problem all the time. If you take out food and fuel, he pointed out, the cost of living is not going up too fast. Of course, it is a strange American who lives without food or fuel, so we take his remarks as a kind of theoretical discussion…of interest only to economists and philosophers.

Speaking of economists…

A party of economists is climbing the Alps. After several hours they became hopelessly lost.

One of them studies the map, turning it up and down, sighting distant landmarks, consulting his compass, and finally the sun.

Finally he turns to the others and says, “See that big mountain over there?”

“Yes,” say the others.

“Well, according to my calculations, we’re standing on top of it.”

According to Ben Bernanke, the mountain we are standing on is one where inflation poses no problem. Our suspicion is that he is wrong. Inflation is very much a problem. Independent analysts tell us that M3 is increasing at 12% per year. M3 is the inconvenient truth that the Labor Department no longer reports. It is the fullest measure of the U.S. money supply…and it is going up three to four times faster than the GDP itself. That is old-fashioned monetary inflation…typically followed by old-fashioned consumer price inflation.

So far, most of the inflation has gone where the money has gone – to the upper end. Monets, corporate jets, Manhattan apartments…and a lot of other things the rich spend their money on…are going up at a breathtaking pace. The aforementioned fuel, too, is 30% higher than it was last year. And food? Yes, that is soaring too…thanks to competition for grains from ethanol producers. Gold, above $680, has risen more than 7% so far this year too.

But our guess is that Bernanke is not completely on the level. He may be worried about inflation; but he may also be worried about problems in the lending industry. The pain of subprime mortgage lending doesn’t seem to be as well contained as people thought. No one knows how bad many derivative positions are mispriced. No one knows how many speculators are in over their heads. And no one knows how bad the damage might be if a lot of this CDO debt were to suddenly collapse.

One thing is sure. No one wants to find out…including Ben Bernanke. Unfortunately, we all may be staring down the barrel of this housing crisis sooner, rather than later. Some unlucky Americans are already knee-deep in you-know-what…and they don’t even know it.

Our guess is that the Fed chief would like a little room to maneuver – to cut rates, if necessary – if the crisis deepens.

Bill Bonner
The Daily Reckoning
Vancouver, Canada
Tuesday, July 24, 2007

More news…


Chris Gaffney, reporting from the EverBank world currency trading desk in St. Louis:

“Basis Capital Fund Management Ltd., an Australian hedge fund, is hiring Blackstone Group LP to advise the fund on limiting its losses…an interesting twist to the mortgage mess, as foreign investors are starting to feel the pain.”

For the rest of this story, and for more market insights see today’s issue of The Daily Pfennig


And more views…

*** Short Fuse, reporting from Vancouver:

This year, our annual Agora Financial Symposium is based around the crisis and opportunity found in global investing – with an emphasis on Asia. So, as we flipped through the paper today, we had China on the brain.

An article called “Living Without Chinese Imports” caught our eye. Hmmm…it seems like everything has a “Made in China” tag on it. How would it be possible to live without using Chinese products?

Well, as the woman conducting this experiment realized, it is nearly impossible. In her book, A Year Without “Made in China”, author Sara Bongiorni wanted to see how deeply our international trade ties with China really run. The Reuters article was careful to point out that Bongiorni had no protectionist agenda – she was simply intrigued by the connections America has to the Chinese economy.

Reuters reports:

“‘I wanted our story to be a friendly, nonjudgmental look at the ways ordinary people are connected to the global economy,’ she said in an interview before the book appears in July.

“As a business journalist in Baton Rouge, Louisiana, Bongiorni wrote about international trade for a decade. ‘I used to see the Commerce Department trade statistics, the billions of dollars, and think it had nothing to do with me,’ she said.

“The reality was far different.

“As the year unfolded, ‘the boycott made me rethink the distance between China and me. In pushing China out of our lives, I got an eye-popping view of how far China had pushed in,’ she wrote.”

Indeed they have…we have become increasingly dependent on the gee-gaws and gadgets coming in from China at Everyday Low Prices – in fact, 15% of the $1.7 trillion in goods America imported last year came from China.

So where is the opportunity to profit – and where should investors be wary of putting their money? We are trying to answer those very questions this week in Vancouver, and in addition to sending you daily highlights from the conference, we have a special opportunity for those of you who couldn’t make the trek to British Columbia.

Unfortunately, we can’t tell you what specific recommendations the speakers will reveal this year…but there is a way to get around that minor detail. You see, we are audio-recording each speech – and assembling all the recommendations that will be made during the more private afternoon workshop sessions into a special report.

Now, back over to Bill…

*** Heathrow Airport is just too big. London might be too big too. It makes it hard to get around. Just going from one terminal to the next can take a lot of time. And it requires complex infrastructure that tends to break down when you need it the most.

That’s why the biggest cities are rarely rated as the best ones to live in. The best cities are those that are big enough to have the services, entertainments and employments of a major metropolis, but still small enough so you can get around without too much trouble.

Perhaps that is why Vancouver is usually considered one of the world’s most livable burgs. We always like coming back to Vancouver. It has a kind of old-Canadian calm and informality about it…along with a bustling, energetic Asian business community. Glass housing towers make it look a lot like Hong Kong. And the Asian restaurants here are among the best in the world.

*** “Most everything in the natural resource area is over-priced,” said our old friend over dinner last night. “But there are some exceptions. I’ll give you two of them. One is alternative power. Not ethanol…but real alternative power is fairly cheap. And the other thing that is cheap is projects in war zones…or places that could be war zones. I’m looking at some projects in Iran, for example. Nobody wants to touch them. And in Sri Lanka. The one in Sri Lanka looks very interesting.” More to come.

*** Today, Henry turns 17. Our children are all growing up. Edward, the youngest, turns 14 in November. Soon, we won’t have any children left. What will we do then?


The Daily Reckoning PRESENTS: The whole matter of trade deficits is, unfortunately for investors not paying attention, just one of far too many aerosol cans now roasting in the fire. When they start exploding, you’ll want to be safely hiding behind a wall of gold and silver. David Galland explains…


A quick chat about trade deficits seems timely. Starting with the notion that they are inflationary, right?

Well, technically, they don’t have to be. That’s because, in the absence of government intervention, all a trade deficit should mean is that the people of one country are willing to trade their money for something on offer by the people of another country.

In the 1800s, the U.S. ran big deficits and did quite well because our country was full of opportunity and promise, so foreigners invested here, more than we invested there.

The problem comes when a government, say China, steps into the picture and deliberately suppresses its currency to attract businesses to certain sectors of its economy – for instance, city dwellers. That causes an aberration, the result being a lot of U.S. dollars shipping out to China in exchange for all manner of consumer goods… dollars that the Chinese have then turned around and invested in U.S. Treasuries. More on that momentarily.

The massive deficits with China are unstable because, rather than being the result of open trade, they are based largely on political decisions made by a handful of people in the Chinese government.

In time, those people – or their successors – may decide that there is more advantage to spending the dollars. Or they will be forced to do it. Say, to appease other segments of the economy now penalized by the higher cost of foreign goods. Or they might have to spend the dollars to pay the cost of a war or to bail the country out of a financial crisis.

Regardless of the reason, at some point the political advantage of spending those dollars, rather than hoarding them – which the Japanese did to their detriment in recent decades – will reach a tipping point after which those greenbacks will come flooding back to the market, devastating the value of the dollar on foreign exchange markets.

The dollar has already, since 2002, lost about 26% of its value. Of course, a good deal of the pain that depreciation has caused to the wallets of foreigners has been offset by the interest they earned on their Treasuries. But treading water is one thing, and standing by while your pile of cash starts to go up in the flames of a monetary crisis is another.

Viewed from another angle, over time it isn’t the trade deficit that is inflationary. Rather, the trade deficit is effectively a subsidy provided to the U.S. by China… a subsidy that comes from the Chinese having used the river of dollars provided by U.S. consumers to buy the unbacked paper of the U.S. government. That has allowed U.S. interest rates to remain artificially low and forestalled inflation in the U.S. It is as if China is building up a big bank of inflation points. Sooner or later, they are going to spend those inflation points.

Make no mistake, we are in uncharted water; it is unprecedented that the claims represented by the fiat currency of one government – that of the U.S. – have been accumulated in such massive quantities for the reserves of other governments. And we’re not just talking China but virtually the world. And the world is getting nervous.

To quote Thai Finance Minister Chalongphob Sussangkarn in his recent address to the annual meeting of the Asian Development Bank in Kyot

“Should the financial markets lose confidence in the U.S. dollar, huge capital outflows from the U.S. could lead to a rapid depreciation of the U.S. dollar, and thus dramatic appreciation of other currencies.”

The whole matter of trade deficits is, unfortunately for investors not paying attention, just one of far too many aerosol cans now roasting in the fire. When they start exploding, you’ll want to be safely hiding behind a wall of gold and silver.

In the final analysis, every day gold goes up and gold goes down, with the movements based on any number of inputs. To avoid being panicked one way or the other, a long-term perspective is required to see these fluctuations in their proper perspective. And, despite all the jagged fits and starts these past few years, and all the nay saying along the way, three years ago, gold was trading for $393 an ounce… 40% lower than it is today.

And the better gold shares have offered exponentially higher returns than that.

While now is the time to begin accumulating your gold and gold share positions – if you have not already started doing so – how will you know when things are about to get really “interesting”? My partner Doug Casey recently made the observation that it is not when the trade deficit is rising that you should be concerned, but when it starts to contract… because that is a sign that the flood of greenbacks is starting to return home.


David Galland
for The Daily Reckoning
July 24, 2007

Editor’s Note: David Galland is the managing editor of BIG GOLD, a new publication from Casey Research dedicated to helping investors profit from the developing bull market in precious metals – with an easy-to-maintain portfolio of conservative mid- to large-cap gold producers and near-producers.

The Daily Reckoning